mainly macro

Thursday, 8 December 2016

It began as part of
my undergraduate lectures. After teaching students about the key role
of expectations in influencing exchange rate movements, I joked they
too could now become one of those City economists who comment on
market movements. X goes up and the market falls - you explain the
fundamentals. X goes up and the market rises, appearing to contradict
the fundamentals - you say the markets were expecting a bigger rise
in X. There is no data to contradict you, so no one will question
your wisdom.

Companies pay market
researchers tons of money to find out why people do or do not buy
their products, so the idea that an individual can know why the
market moves within hours of it moving is just nonsense. Yet day
after day we see City economists telling us just this. They hardly
ever express any doubt or uncertainty. They know if they did the
media would regard that as boring, and choose someone else next time.

In writing posts I
talked about why the media used City economists for this kind of
commentary, because academics would be hopeless at it. In my lecture
I said an academic, if asked by the media to comment about why
sterling fell by 1% yesterday, would give one of two replies. Either
‘oh, did it, I hadn’t noticed - too busy marking’ or ‘who
knows, there could be lots of reasons, we have no evidence on this at
all’. But as I said it during the lecture I realised that it some
way this was not really a story about how hopeless academics are in
talking about daily market changes, but a story about how the media
treats knowledge. After all, the second response is the truthful one.
Even the first conveys some truth: unless you are speculating on the
markets why does one day’s modest market movement matter?

The media use City
economists because they are used to telling stories. Stories that
will impress clients with lots of money to invest. As I’m sure
Chris Dillow has written, people are swayed by confidence, even if
that confidence is completely unfounded. Put a climate scientist, who
being a scientist knows about all their doubts and uncertainties and
is honest about them, in a debate with a media savvy climate change
denier, and you will see that many will find the climate denier more
convincing.

So the fact that the
media gets City economists to tell their stories day in and day out
tells us something interesting about the media. They seem quite happy
to allow people to tell stories as fact, because it appears that they
are asking an expert who ‘knows’. Now I’m sure the response
would be by both the media and the City economist that of course
everyone really understands that these are stories and not knowledge,
and they are worth repeating because they are plausible stories. They
could be true, but everyone really knows they are just conjectures
based on little solid evidence.

But does everyone
really know this? I’m sure the City economist knows this. I’m
less sure about the audience, and even sometimes about the person
interviewing the economist. This is a game of pretend that has been
going on for so long that what is pretend has become real. Wouldn’t
it be a good idea to insist on these City economists prefacing
everything they say by ‘Of course we do not know, but my hunch is
that …’ Isn’t it better to properly inform viewers of what is
going on here, even if it does become a little repetitive? Or is
informing the viewer not what this is about? And does this constant repetition of false certainty not have something to do with how City economists can be regarded by some policymakers as high priests to the fickle god of the market.

It was interesting
that some of the reaction I got to Saturday’s post
was ‘why don’t forecasters tell people about these
uncertainties’. Why are they not more modest? But the better ones are, and any academic who knows
about macro forecasting will tell you how uncertain unconditional forecasting is. The fact that this
knowledge is not reflected in how the media (or politicians) talk about them has
everything to do with the media (and politicians). It suits most of the media (not all)
to exaggerate the certainty, and then to express shock/horror when
forecasts are wrong. And in a way it is a perfect example about the
dangers of treating the media as just a harmless purveyor of news:
you end up blaming the forecasters for something which is not their
doing.

Tuesday, 6 December 2016

In doing my homework
for an appearance at the Treasury Select Committee this morning, I
noticed one point which is of some relevance to the debate about
whether the OBR is being too pessimistic about the impact of Brexit.
Two major ways in which Brexit will have an influence on the public
finances is through lower immigration from the EU and lower
productivity. The two are linked, because the OBR correctly assumes
that lower immigration of skilled labour will in itself reduce
productivity. (Productivity also falls in the OBR’s analysis
because of reduced investment.)

The OBR also assumes
that Brexit will reduce the trade intensity of the UK: less exports
and imports. This is pretty obvious to anyone who has looked at
international trade: transport costs may not be as high as they once
were, but gravity equations tell us that geographical distance is
still a key factor in influencing whether trade takes place, which
means that reduced trade with the EU will not be matched by new trade
outside the EU.

The Treasury
analysis of Brexit assumed that this lower trade intensity would also
reduce productivity. The OBR do not include this effect, calling it
too uncertain. This is a slightly surprising judgement. To see this,
look at this piece
by Maurice Obstfeld, chief economist at the IMF. Here is a quote:

“Empirical research supports Ricardo’s fundamental insight that
trade fosters productivity [by increasing efficiency through
comparative advantage]. But the productivity and growth benefits of
trade go far beyond Ricardo’s insight. With trade, competition from
abroad forces domestic producers to raise their game. Trade also
offers a wider variety of intermediate production inputs firms can
use to produce at lower cost. Finally, exporters can learn better
techniques through their engagement in foreign markets, and are
forced to compete for customers by raising efficiency and upgrading
product quality (for example, Dabla-Norris and Duval, 2016).”

Now few things are ever certain in economics, but none of these
transmission mechanisms from greater trade to higher productivity are
particularly fanciful: they all make common sense (at least as seen
by an economist). They are all one directional, which means assuming
an effect of zero is an extreme point in every case. In this sense,
the OBR is being rather optimistic about the impact of Brexit on the
UK economy.

Saturday, 3 December 2016

Not a post about a certain byelection, but a reaction to reading
this:

“A more serious incident was the forecast by the Office
for Budget Responsibility in the UK, which said last week that
Brexit would have severe economic consequences. Coming only a few
months after the economics profession discredited itself with a doomy
forecast about the consequences of Brexit, this is an astonishing
reminder of the inadequacy of economic forecasting models.

The truth about the impact of Brexit is that it is uncertain, beyond
the ability of any human being to forecast and almost entirely
dependent on how the process will be managed. “Don’t know” is
the technically correct answer. Before the referendum, Project Fear
was merely a monumental tactical miscalculation. Today it is
stupidity. One of the debates was whether people should be listening
to experts. We have moved beyond that. Because of a tendency to
exaggerate, macroeconomists are no longer considered experts on the
macroeconomy.”

Shrug your shoulders and move on? If it had appeared in the partisan
press that would be a sensible reaction, but this was written
by a widely respected journalist in the UK’s internationally renown financial newspaper. Furthermore - lest my motives be misunderstood - written by someone whose knowledge on the Eurozone is beyond dispute and whose views I often agree with. Well on this occasion this particular member of a discredited
profession who is no longer apparently considered an expert on
macroeconomics is not prepared to take this kind of stuff anymore, whoever it may come from.

It is difficult to know where to start with such apparent and
complete ignorance. Nonsense expressed as platitudes. You can only
make sense of “beyond the ability of any human to forecast” if
you either think we know nothing about the impact of trade
restrictions, which is false, or that forecasts are
non-probabilistic. No journalist has any excuse nowadays for
misunderstanding the probabilistic nature of forecasts (Bank of
England fan charts), and any academic economist who knows anything
about forecasting will tell you that unconditional
macro forecasts are only slightly better than intelligent guesswork.
They exist because it is worth being slightly better than guesswork
when the stakes are so high.

You can also only make sense of these two paragraph if the writer is
unaware or is just choosing to ignore the difference between
conditional and unconditional forecasts. These are long words for a
very simple concept. You would not dream of asking your doctor to
forecast the number of times you would catch a cold over the next
year (an unconditional forecast), but if you gave them all your
relevant data they could probably make a better guess than your own.
Their forecast would be probabilistic, but if you took the mean as
‘the forecast’ then in any particular year your doctor would
generally be wrong. It would be absurd for you to then say that,
having ‘discredited the profession with this inaccuracy’ you were
now going to ignore their advice about how to avoid catching colds
(advice based on conditional forecasts). But this is the logic of
these two paragraphs.

As for a tendency to exaggerate, the simplest response involves
a black kettle. But on this particular occasion I think there is a
more honest response. In the Brexit campaign I felt the temptation to
exaggerate (I don’t think I ever succumbed), because the media was
failing to get the message from economists across. Our collective
knowledge about the impact of trade restrictions was treated
as just one more opinion, or
described as Project Fear. When you are effectively being
ignored you tend to shout louder.

But this is all
defensive. Trying to explain yet again some basic economic ideas, and
to be honest about what you can or cannot do and any failings you
have. I’m just tired of doing this stuff over and over again, so it
is time not just to defend. There are many good journalists out
there, who when they write about macroeconomics do try to check with
academics that what they are writing makes sense. (It was one of
those journalists who drew my attention to the article I quote
above.) It simply lets them down when others think they can write
this sort of stuff without any of the kind of basic fact checking
that journalists are supposed to do. It brings the profession of
journalism into disrepute.

And they can only
get away with it because academic economists only get a media voice
by the grace and favour of journalists. If anyone should be doing
some serious introspection after the Brexit result it should
be journalists and the media. Warning of the dangers of trade
restrictions was not a ‘tactical mistake’. What was a mistake was
for journalists to allow those warnings, that knowledge, to be
characterised as Project Fear, all in the name of ‘balance’ or
cheap copy. But this was not a temporary lapse in an otherwise good
record, but just another example of a growing tendency for the media
to allow politicians to define economic facts and truths, a record I
described in my lecture.

To have the nerve to
blame economists for the Brexit result, to suggest that using their
knowledge was a ‘tactical mistake’, to imply that the OBR
should pretend they know nothing about Brexit, all that is itself
amazing malevolent chutzpah. But it goes beyond audacity to criticise
a profession and subject matter you appear not to understand when it
is this lack of understanding that has contributed so much to the
damage over the last few years.

Thursday, 1 December 2016

You can now listen
to my SPERI/New Statesman prize lecture in full here,
or even watch it all here.
The talk looks at recent UK history, involving austerity and Brexit,
to argue that there are serious problems in how the broadcast media
treats economics. [1] The two main problems I talk about are
exclusion and balance. Exclusion, where academic economists are
simply ignored because they are not part of the Westminster bubble,
can lead journalists to assume statements made by politicians are
true even though an economist knows they are false or at least highly
questionable. I give a number of examples in the talk, including
after the 2013/14 floods where Cameron said there had been no cuts in
flood prevention when there clearly had been cuts. Balance is where a view that represents a consensus
among academic economists is treated as just another opinion, to be
balanced by the opposite view. This simply devalues knowledge. The
costs of Brexit is a clear example.

Solutions to these
problems must start with academic economists themselves. It is asking
too much to expect journalists to know whether a view put forward by
an economist represents a consensus among academics or an
idiosyncratic view. An obvious way to remedy this is through regular,
topical polls of as many academic economists as possible. (I prefer
this approach to sampling selected academic ‘leaders’ for reasons
I may discuss in a later post.) The example I have in mind was the
poll of Royal Economic Society members undertaken by the Guardian
during the Brexit campaign. What these establish is whether a
consensus exists or not on key issues. They are much better at doing
this than letters to newspapers.

The reason why this
is far better than getting more academics on programmes like
Newsnight (not that I have any problem with that) is that it can then
prevent the problem of balance. I use in the talk the example of
climate change to show how the broadcast media could treat a
consensus view among economists (90% or more agreement) as knowledge,
not as simply an opinion to be balanced against another. Getting the
broadcasters to do that will not be easy, but academics first need to
remove the objection that journalists cannot know what economic
knowledge is. Our target audience should not be Newsnight but the 6pm or 10pm news programmes, which may be the only non-partisan news that readers of
the right wing press ever see. We need political correspondents to
routinely say what the economic consensus is, and use it to
interrogate politicians when they deviate from it.

Economists could
learn a great deal from the physical and medical sciences on how to
use collective pressure to ensure media policy is changed. Climate
change is the obvious example where the media began to treat
knowledge as just contested opinion (because that is the media’s
preferred format), but it was changed as a result of pressure from
the scientific community, working through existing institutions that
represent scientists. This can be effective not just with the big
ticket issues like Brexit, but also where an individual piece of
research is misrepresented
in the media.

Only once this
pressure is brought to bear on the media will we see the media begin
to improve its own capability in the area of economics. As I note at
the end of my talk, the BBC trust recently commissioned a report on
the use of statistics, and most of its recommendations could equally
well be applied to economics. To achieve that requires pressure and
help from economists as a collective.

The broadcast media
should be a defense against populism, not the means by which populism
takes hold. If you treat knowledge as just an opinion, of course
people will vote for whatever sounds good to their ears. Let’s cut
government spending: we should all tighten our belts. Let’s keep
immigrants out so there will be more jobs for natives and better
access to the NHS. As I explained in my lecture, this was not just a
problem involving the EU referendum: because the broadcast media
accepted the Conservative narrative on austerity by excluding the
views of the majority of academic macroeconomists they helped them
win an election. [2]

The referendum story
is far from over: key decisions on issues like the Single Market have
still to be made. We cannot expect people to make sensible decisions
about these issues if expertise on these issues (not just economic,
but legal, constitutional etc) is kept locked away in specialist
programmes they will never see, or ignored altogether. We must stop
allowing politicians to dictate what is knowledge and what is just an
opinion.

[1] The lecture and
this post are about the UK. Although the general points I make about expertiseare universal, my specific recommendations only apply to a broadcast media
that is not under government control and is regulated to prevent
partisan broadcasting. Although my knowledge of the US is far less,
it seems to me the problems there are deeper still, particularly now
we have a POTUS and Congress who show no respect for truth.

[2] Someone asked me
recently what had gone wrong with the media, but as I say in my talk
this problem has been there for decades (see this post on Jay/Birt in
the 1970s). What has happened is that, because of underlying social
and economic trends, and simply because politicians have learnt how
to play the media, media rules that kind of worked when politicians
played by the rules and respected truth fall apart when they do not.

Tuesday, 29 November 2016

In August 1991,
hardline elements in the army and KGB staged a coup against Mikhail
Gorbachev, shortly after Gorbachev had agreed to reorganise the USSR
as a new confederation. To many this seemed like an end to the
reforms that Gorbachev had brought, as the coup leaders appeared to
have the support of the whole military. Yeltsin was defiant in
Moscow, but those who remembered the Prague Spring probably thought
the tanks would win out. Then the coup’s nominal leader, Gennady
Yanayev, gave a press conference in which he looked
nervous with his hands shaking, and it became clear that the coup
leaders were meeting serious resistance. It collapsed shortly
afterward.

I remembered this
when watching the proponents of hard Brexit shout down any concern
about what the government might agree following the EU referendum,
and attack anyone who pointed out the difficulties that leaving the
single market might bring. They too have carried out a sort of coup
against parliamentary democracy, and maybe declaring judges enemies
of the people is the equivalent of Yanayev’s shaking hand. They
cannot quite believe what they have done, and fear it may all
collapse when people realise what is going on. Our Prime Minister has
had to draw
on her faith in God to enable her to continue leading this coup.

If you think coup is
too strong a word, think about what has happened. An advisory
referendum decided by a very narrow majority to leave the EU. That is
all this slim majority of the electorate decided. They did not vote
to leave the single market (SM), partly because most leaders of the
Leave campaign told us (correctly) that leaving the EU was quite compatible with
staying in the SM. They did not vote to end freedom of movement.
Leaving the EU is not one policy, but a whole range of possible
policies with quite different effects, and the electorate have said
nothing about their preferences among these possibilities. In short,
the referendum was about the EU and not the SM, and whatever they say
now we know that you can be in the SM without being part of the EU.

Yet a new
government, with no mandate from the voters, has decided that only it
should be allowed to interpret what leaving the EU should amount to,
and the electorate through their representatives in parliament should
have no say in the matter. The people, having indicated a change in
direction, are to be allowed no say whatsoever in where exactly they
are to be led. The differences between these alternative paths out of
the EU are immense, and this choice on how exactly to leave the EU
will have a huge impact on every citizen. Yet the people and their
representatives are not even to be allowed to know what options the
government are aiming for. (The OBR was even denied knowledge of how
the government intending fulfilling its guarantees to Nissan.) The
pretext for this coup, involving keeping their negotiating hand
secret, is as thin as the Soviet coup’s claims that Gorbachev was
unwell.

Any attempt at
parliamentary control over what might happen is described as trying
to stop Brexit. Why not seek to stay in the SM? Just asking that
question means to the coup leaders that you are trying to stop Brexit
(of course it does not). Why not see what might be on offer before
starting the clock on being thrown out with nothing? That is just a
delaying tactic, they say. Why not have a second referendum on the
final deal? Finding out what the electorate thinks once that the exit
deal is clear would be against the will of the people, they chime
without irony. When you are told that consulting the people or their representatives is
against the will of the people, you know there has been a kind of
coup.

But I fear that in
this case the coup leaders’ nervousness is unwarranted. Three
judges have thrown MPs a lifeline, a chance to stop this coup, and MPs look like throwing it right back. Those Conservative MPs who
know what damage this will do have decided they can do nothing to
stop the Conservative party being taken
over by fanatics. The Labour party appears pathetic: its leadership
wanting exit from the SM for their own reasons (talking shamelessly
about ‘access’ in the hope of muddying the water) and the PLP is
more concerned about losing votes than improving their electorate’s
welfare (it is the story of austerity all over again). They had a
chance of coming together to lead the opposition to this coup and
they have blown it. Instead of Boris Yeltsin, we have Tom Watson, who
joins
in the mantra that opposing triggering Article 50 is going against
the will of the people.

And instead of
courageous citizens of Moscow we have Labour party members saying it
is best to bide time and work within for change. This timidity is
obnoxious to see: they should instead be demanding their MPs take
back control. It is their prosperity that will be diminished by this
coup, their right to work in the EU taken away. It seems to me that
approving Article 50 is the last chance for representative democracy
to have its say. Once that vote is in the bag, the government can do
what it likes and nothing can be certain to stop them. (A vote on any
final deal is no choice, because the consequences of saying no will
be far worse.)

So MPs are acting
like turkeys voting for Christmas. They know that in all likelihood
voting to trigger Article 50 will throw away their chance to stop the
government ending our membership of the SM, thereby
reducing their constituents access to public services and the chance
to keep young people’s right to work in the EU. They will be
handing all the levers of power to a government that seems to be run
by a minority of fanatics. Is this what a once proud country has allowed itself to become? Is this what a parliament that once stood up to kings has been reduced to?

Monday, 28 November 2016

David Willetts, who
I have generally found to be pretty sensible, praises
Hammond’s Autumn Statement in the FT as casting off Osborne and
Treasury orthodoxy. This is the same Autumn Statement that I
described
as a return of austerity: wasting resources by cutting spending when
interest rates are at their lower bound. I think these two different
views of the same event can be explained by an analogy.

Imagine four
different reactions after a fire breaks out.

The house is
fitted with a sprinkler system which puts the fire out pretty
quickly

There is no
sprinkler system, but the house owners find every drop of water they
can, using buckets and hoses, to put it out

The owners
get one bucket, but only ever fill it half up because water is not
free

The owners do
nothing: the fire will soon burn it itself out, they say, and water
needs to be conserved.

In case it is not
obvious, the fire is a negative output gap - wasting resources - and
water is the deficit or debt. David Willetts is praising Hammond for
moving from (4) to (3). Instead what he and the Treasury should be
doing is (2), and then installing (1), which if you haven’t guessed
is analogous to a fiscal rule with a zero lower bound knockout.

I know the
Conservatives will not do (1) until this generation of politicians
have passed, because it would be an implicit admission that 2010
austerity was a mistake. I also know that Labour is committed to such
a fiscal rule.

Hammond may get
lucky, and economic growth could be much stronger than forecast such
that the MPC soon stops QE and raises rates. In my analogy, the fire
might not spread. But policy should always take account of reasonable
risks, and the probability at the moment is that we will stay at the
lower bound for some time. The official output gap may be small
compared to 2010 (although I worry it might in reality be a lot
larger), but if you discovered a fire in your house what would you
do?

Saturday, 26 November 2016

A number of people,
including the occasional economic journalist, are puzzled about why
government debt at 90% of GDP seemed to cause our new Chancellor and the markets so
little concern when his predecessor saw it as a portent of impending
doom. I always argued that this aspect of austerity had a sell by
date, so let me try to explain what is going on.

The 90% figure comes
from a piece of empirical work which has been thoroughly examined,
and found to be highly problematic. (Others have used rather more
emphatic language.) Part of the problem is a lack of basic thinking.
Why should the markets worry about buying government debt, beyond the
normal assessment of relative returns. The answer is that they worry
about not getting their money back because the government defaults.

If a government
cannot create the currency that it borrows in, then the risk of default
is very real. Typically a large amount of debt will periodically be
rolled over (new debt sold to replace debt that is due to be paid
back). If that debt cannot be rolled over, then the government will probably be
forced to default. Knowing that, potential lenders will worry that
other potential lenders will not lend, allowing self fulfilling beliefs to
cause default even if the public finances are pretty sound.

The situation is
completely different for governments that can create the currency
that the debt they sell is denominated in. They will never be forced
to default, because they can always pay back debt due with created
money. That in turn means that lenders do not need to worry about
forced defaults, or what other lenders may think, so this kind of
self fulfilling default will not happen.

Of course a
government can still choose to default. It may do so if the political
costs of raising taxes or cutting spending is greater than the cost
of defaulting. But for advanced economies there is an easier option
if the burden of the public finances gets too much, which is to start
monetising debt. That is what Japan may end up doing, and what others
may also do if QE turns out to be permanent. But this is a very
different type of concern than the threat of default. And it does
not, in the current environment, lead to the emergence of large
default premiums and market panics.

How can I be so
sure? Because with QE we have had actual money creation, and it has
not worried the markets at all. It seems hard to tell a story where
markets panic today about the possibility of monetisation in the
future, but are quite sanguine about actual monetisation today.

So for economies
that issue debt in currency they can create, there is no obvious upper limit anywhere near to current debt/GDP ratios when economies are depressed and inflation is
low. Japan shows us that, and we must stop treating Japan as some
special case that has no lessons for the rest of us. (How often did we hear of their lost decade in the 1990s that it couldn’t happen
anywhere else.)

It was good that the
IFS suggested Hammond has a look at Labour’s fiscal rule. As I
explained in this post, Hammond’s new ‘rule’ is pretty
worthless. But one key part of Labour’s rule that keeps being
ignored but is crucial in today's environment is the knockout if interest rates hit their
zero lower bound. It is for the reasons described above that this
knockout is there and is perfectly safe: when interest rate policy fails you can completely and safely forget the
deficit and debt and use fiscal policy to ensure the recovery. It is
the basic macro lesson of the last 6 years that is fairly well
understood among academic economists but still remains to be learnt
by most people who talk about these things. Whether senior economists
in the UK Treasury need to learn it or just keep quiet about it for
other reasons I do not know.